This is Why Stocks Are Booming, But Can They Continue?
After the big banks posted their profits last week, many investors could relax. Earnings and revenues far exceeded estimates from investors’ polls by Refinitiv. Despite their high prices, analysts like Mad Money’s Jim Cramer are now suggesting that financial stocks are “dirt cheap.”
While in the UK, the FTSE 100 rose through 7000 for the first time in over a year. Stock markets dropped wildly last year due to COVID-19 investor panic. But now, having bounced back strongly, stocks are looking like the safest place for money, with current banking interest rates offering returns of just 0.1%.
While still short of an all-time high of over 7500, year-over-year growth of 35% is astounding. Oil, pharmaceuticals, commodity extraction, have spurred most growth and the return of the high street and hospitality as pandemic restrictions relax.
However, US stocks are performing even stronger, with tech giants like Apple, Amazon, and Alphabet contributing to an 82% rise over the same period.
After a challenging 2020, investors and analysts are giddily proclaiming, the worst is over. However, on further inspections, things might not be so straightforward.
The lockdown road map has provided much-needed relief for the retail and parts of the hospitality sector in the UK. A successful vaccine rollout has led to a clear and defined pathway for UK life to return to normal. Additionally, investor sentiment seems high.
However, it’s not just a return to normal that has prices on the rise. Interest rates on bonds, and talk of rising tax rates, have seen money flow into stocks.
Across the pond, Joe Biden’s administration’s commitment to a further $1.9bn stimulus and infrastructure investment package should keep the economy in good health. This, combined with the Federal Reserve’s promise to keep interest rates low unless inflation goes over 2%, should create favourable conditions for investors. Cheap money and rapid growth are an investor’s dream.
Of course, inflation is a growing concern for many investors; however, this could result in good news for the UK markets. Motley Fool’s Malcolm Wheatly recently pointed out that falling bond and gilt prices suggest a sell-off is in progress.
If this indicates that inflation is coming, the same publication suggests that equities could become more attractive. Real businesses that can maintain their sales should be able to go with the flow of inflation, provided inflation doesn’t get too high.
The data on how rising inflation affects overall stock markets are open to interpretation. However, as Kevin Godbold at the Motley Fool suggests, value stocks tend to perform best during high inflation.
If this theory holds, UK’s value and cyclical businesses could become very interesting to foreign investment, leading Godbold to hint that we could be on the edge of a multi-year UK stock market boom.
Despite jubilance caused by the end of the lockdown, this has been a Y-shaped recovery for many. As retail and hospitality sectors make steady gains, it’s worth remembering that airlines are still struggling. Easy Jet, British Airlines parent company IAG, RyanAir, and Jet 2 are all slightly depressed.
The UK’s vaccine rollout success hasn’t been replicated globally, so further travel restrictions are expected. Indeed, the pandemic may have altered consumer behaviours forever.
British holiday-goers may continue to embrace the staycation, while work from home and virtual work could continue to hit one of the sector’s biggest earners: business travel.
Other downsides for investors to consider are related to new, mutant COVID strains. While vaccine rollout has been a success, it’s not guaranteed to be effective with new variants. Stock price rises in the last year have an economic recovery baked in; any more surprises could hit hard.
Market Watch has sounded a note of scepticism about the global market recovery. While gains are high, they have noted that they have some way to go before the match past crash recoveries.
Additionally, they add that the sectors earmarked to benefit the most from relation — financials, materials, industrials, and energy — are still below pre-COVID levels.
Finally, the Nasdaq 100 tracker QQQ ETF reported an outflow of $2.5bn from the fund, its biggest since October. While this might not prove to be symbolic of broader withdrawals, it is a significant trend reversal.
Alpesh Patel’s Conclusion
The market or investor sentiment isn’t something that is too easily predicted. Crashes happen, rally happens; the FTSE 100 could go far north of 7000 or get back down to 5000. The only way to ride this variance is to think long-term.
The sensible play is to fully invest in resilient companies with strong growth potential and cash flows. Therefore if the market trends downwards, which it inevitably will at some point, you know your portfolio won’t fall as far, and it will bounce back quicker.
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Alpesh Patel OBE